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A key moment for capitalism

I was late to the breakout of the news on the leak of Panama papers. Heard about it at a dinner on Monday evening. I caught up with itin recent days. This CNBC report is a good one. It puts the issue in the right perspective.

In China, there is a clampdown on the discussion of the Panama papers. Atlantic magazine has a good article on it. On Friday morning, the FT has more revelations of more Chinese leaders named in the Panama papers. South China Morning Post reports that the Hong Kong office of Mossack Fonseca, the Panama law firm at the centre of the leak, was the busiest of all their offices!

Notwithstanding one’s aversion for China’s economic policies, its attitude in the region and its political atmosphere, the following observations of ‘Global Times’, a Chinese tabloid newspaper promoted by ‘The People’s Daily’, cited in the article in ‘The Atlantic’ are well made:

It can be predicted that such disclosure will not survive if it embarrasses the West. But the West will be happy to see such leaks happen if their opponents are attacked.

It is fascinating to watch David Cameron’s troubles mounting after a triumphant return to power. His late father is mentioned in the Panama papers. Cameron has now admitted to benefitting from the Trust set up by his father, to the tune of 30,000 pounds. But, the credibility hit is far larger.

Further, in 2013, David Cameron wrote to the EU pressing for weaker laws that would not scrutinise private trusts set up to avoid or escape taxation. That has come to light now.

In a world which is increasingly characterised by the ‘lynch mob’ attitude, the public is going to pay little heed to nuances and niceties that not all offshore accounts are sheltering ill-begotten money or money that has escaped the scrutiny of the taxman.

It is unclear why some world leaders, or members of their family, are posted on the ICIJ’s rogue’s gallery as somehow implicated in the affair.

The Argentine leader Mauricio Macri, the King of Saudi Arabia, and a sister of the former King of Spain are all flagged, yet the supporting documents do not suggest that they have done anything wrong. Critics say there is a risk of a witch-hunt and vigilante publicity. [Emphasis mine]

Yet what seems clear is that off-shore finance will never be the same again after these revelations.

“The Panama Papers seem to confirm the evidence from elsewhere that the world’s corrupt elite are gaming the international financial system to launder and protect their stolen wealth,” said Robert Barrington from Transparency International.

Few would disagree.

It is not good news for banks.

A story in the FT lists the banks and the number of accounts they opened. FT also has a ‘What you need to know about the Panama papers’ article.

This news is a good one for Bernie Sanders. He has won Wisconsin. His sights are now set on New York primary which is to be held on April 19. Hillary Clinton is the favourite to win New York.

The leaking of the Panama papers has coincided with the new inversion focused tax regulations announced by the US Treasury. Together, they mark a very important turning point in the swing of the pendulum away from capital and capitalists. Their heydays are over. If they were still in denial about it, these two developments must have disabused them of any notion that they were still in charge. That is history now.

Also, look at the story of Ford Motors investing in a new plant in Mexico. At another point in time and age, it would not have mattered at all. In fact, it might have been hailed as triumph of globalisation. Now, it symbolises all ‘that was wrong with NAFTA’!

This is what Goldman Sachs had to say on the US Treasury regulations on inversions and earnings stripping announced on 4th April:

The Treasury released stronger-than-expected changes to tax rules related to inversion transactions. This marks the third set of inversion-focused rules changes since 2014. While the first set of changes in September 2014 was stronger than expected, the second set in October 2015 was much more incremental, creating an impression that the Treasury might not make any further significant changes. By contrast, the changes the Treasury proposed today (April 4) go beyond inversion transactions per se and focus on a practice that foreign firms—not just inverted companies—use to lower their US tax rate, as well as transactions that do not technically meet the definition of inversions but which the Treasury believes to be inversions in practice.

These changes will be made unilaterally and no congressional approval is required. The Treasury is making these changes via regulation on the basis of existing laws, so the announced policies are essentially final unless the Treasury decides to revise its interpretation of the laws again in the future. That said, it is possible that some companies involved in transactions that would be restricted under the new rules could bring a legal challenge against the changes.

Apparently, the US Treasury was rather clever, according to this FT story:

Adding to the confusion, the Treasury issued a “proposed regulation” as opposed to an actual rule, leaving the market puzzled about the exact effect.

That uncertainty was no accident, according to Terry Haines, an analyst at Evercore ISI. The proposal will make companies considering an inversion have second thoughts well before the Treasury ever hammers out the formal rules.

A “proposed rule” was also harder for affected companies to challenge in court, Mr Haines said.

“What Treasury is trying to do is avoid court scrutiny while discouraging inversions at the same time: if a rule is only ‘proposed’ by a regulator, courts reject lawsuits because the government has not taken a final action that definitely harms someone,” Mr Haines wrote in a note.

In the wake of the US Treasury announcement, Pfizer cancelled its proposed merger with Allergan. This story from Bloomberg on the cancellation is worth reading. The very cancellation of the merger is proof, if it were needed, that the merger was for tax purposes and not for business reasons. There was a predictable reaction from companies/representatives:

“Rather than using a scalpel to deal with this issue they are using a machete,” said Nancy McLernon, president of the Organisation for International Investment, a trade group for foreign companies in the US.

“It’s a misguided approach. They’re trying to go after those companies that are doing something they think is problematic and carelessly hitting a whole class of employers.” [Link]

These reactions are unlikely to win them much sympathy from either the public or the tax authorities. They are just venting helpless frustration.

Somehow, these developments will convince Indian tax authorities that they should not give up on their retrospective tax claims against Vodafone, Cairns Energy and others. That may not be reasonable. After all, US Treasury is not targeting all past tax-induced mergers. Its rules are only prospective. But, Indian tax authorities are likely to conclude that they should not give up on their claims with foreign companies.